FAR 41 - - Acquisition method of Accounting 2 Flashcards Preview

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Flashcards in FAR 41 - - Acquisition method of Accounting 2 Deck (51):
1

On July 1, Dill, Inc. exchanged 10,000 shares of its common stock for all 20,000 shares of Ledo, Inc.'s outstanding common stock. Dill's stock is closely held and seldom traded; it has a par value of $10 per share and a book value of $12 per share. Ledo's stock is traded in an active market and has a par value of $5 per share, a book value of $8 per share, and a market price of $11 per share. Which one of the following amounts is most likely the appropriate value of Dill's investment in Ledo?

$220,000
Stock issued in a business combination should be measured at fair value. In some cases in which equities are exchanged, the fair value of the acquiree's stock may be a more reliable measure of the value of the transaction than can be determined for the acquirer's stock. In this question, that is the case. Since Dill's stock is closely held and seldom traded, it is less likely to be the basis for determining fair value than is Ledo's stock, which is traded in an active market. Therefore, the most likely value for the transaction would be the 20,000 shares of Ledo's stock that were obtained multiplied by the $11 market price of those shares, or 20,000 shares x $11 = $220,000.

2

In a business combination accounted for as an acquisition, the fair value of the identifiable net assets acquired exceeds the fair value of the consideration paid by the acquirer and the fair value of the noncontrolling interest in the acquiree. The excess fair value of net assets over investment value should be reported as a:
A. Gain.
B. Reduction of the values assigned to current assets and a deferred credit ("Negative Goodwill") for any unallocated portion.
C. Reduction of the values assigned to non-financial assets and a gain for any unallocated portion.
D. Pro-rata reduction of the values assigned to current and noncurrent assets.

A. A gain occurs in a business combination when the investment value in the acquired entity is less than the fair value of the entity's net assets. Thus, when the fair value of the identifiable net assets acquired exceeds the fair value of the investment by the acquirer and any noncontrolling interest in the acquiree, a bargain purchase gain will be recognized.

3

In which of the following circumstances will goodwill be recognized in a business combination?
A. The acquired entity had the asset "Goodwill" on its books immediately prior to the business combination.
B. The fair value of the investment by the acquiring entity and any non-controlling interest in the acquired entity is greater than the book value of the acquired entity's net assets.
C. The fair value of the investment by the acquiring entity and any non-controlling interest in the acquired entity is greater than the fair value of the acquired entity's net assets.
D. The fair value of the investment by the acquiring entity and any non-controlling interest in the acquired entity is less than the fair value of the acquired entity's net assets.

C. Goodwill is based on the excess of investment value over the fair value of net assets. Thus, an acquirer will recognize goodwill only when the fair value of its investment and that of any non-controlling interest in the acquiree exceeds the fair value of the acquiree's net assets.

4

T/F: When a business combination results in a bargain purchase amount, the acquirer should reconfirm that all assets acquired and liabilities assumed have been identified and properly measured.

True

5

T/F: Goodwill is measured as a residual.

True

6

T/F: Both goodwill and a bargain purchase can occur in the same business combination.

False.
Goodwill results when the investment value > net fair value of assets assumed and liabilities incurred at the date of the business combination.
Bargain purchase results when the investment value is less than the net fair value of assets assumed and liabilities incurred as of the date of the business combination.

7

T/F: The gain from a bargain purchase should be recognized in the consolidated statements of the combined entity as attributable to the acquirer.

True

8

T/F: When only common stock is exchanged for common stock to effect a business combination, the value of the stock acquired by the acquirer may be a better measure of the fair value of the consideration than the value of the stock transferred by the acquirer.

True

9

T/F: When only common stock is exchanged for common stock to effect a business combination, the value of the stock acquired by the acquirer may be a better measure of the fair value of the consideration than the value of the stock transferred by the acquirer.

True

10

How should the acquirer recognize a bargain purchase in a business acquisition?
A. As negative goodwill in the statement of financial position.
B. As goodwill in the statement of financial position.
C. As a gain in earnings at the acquisition date.
D. As a deferred gain that is amortized into earnings over the estimated future periods benefited.

C. A bargain purchase means that the acquirer paid less than the fair market value of the identifiable net assets. The seller must have been under some sort of duress (perhaps eminent bankruptcy) and was willing to accept a price less than the value of the net assets. In this case the acquirer recognizes that gain on the date of the acquisition.

11

How should the acquirer recognize a bargain purchase in a business acquisition?
A. As negative goodwill in the statement of financial position.
B. As goodwill in the statement of financial position.
C. As a gain in earnings at the acquisition date.
D. As a deferred gain that is amortized into earnings over the estimated future periods benefited.

C. A bargain purchase means that the acquirer paid less than the fair market value of the identifiable net assets. The seller must have been under some sort of duress (perhaps eminent bankruptcy) and was willing to accept a price less than the value of the net assets. In this case the acquirer recognizes that gain on the date of the acquisition.

12

Which of the following statements, if any, concerning a contingency that arises in a business combination is/are correct?

I. After an acquisition and until it is settled, a contingency that is a liability will be measured at no less than the fair value reported on the acquisition date.
II. After an acquisition and until it is settled, a contingency that is an asset will be measured at no less than the fair value reported on the acquisition date.

I only. After an acquisition, a contingency that is a liability will be measured and reported at the higher of the amount reported on the acquisition date or the amount that would be recognized if the requirements of FASB #5 were followed. Thus, such a liability would not be measured at less than the fair value on the acquisition date (Statement I). Statement II is not correct. After an acquisition, a contingency that is an asset will be measured at the lower of the amount reported on the acquisition date or the best estimate of its future settlement amount. Thus, such an asset would be measured at no more than, not at no less than, the fair value reported on the acquisition date.

13

Which of the following statements, if any, concerning a contingency that arises in a business combination is/are correct?

I. After an acquisition and until it is settled, a contingency that is a liability will be measured at no less than the fair value reported on the acquisition date.
II. After an acquisition and until it is settled, a contingency that is an asset will be measured at no less than the fair value reported on the acquisition date.

I only. After an acquisition, a contingency that is a liability will be measured and reported at the higher of the amount reported on the acquisition date or the amount that would be recognized if the requirements of FASB #5 were followed. Thus, such a liability would not be measured at less than the fair value on the acquisition date (Statement I). Statement II is not correct. After an acquisition, a contingency that is an asset will be measured at the lower of the amount reported on the acquisition date or the best estimate of its future settlement amount. Thus, such an asset would be measured at no more than, not at no less than, the fair value reported on the acquisition date.

14

Which one of the following assets recognized in a business combination will require that the amount recognized be amortized over future periods?
A. An asset arising from a contingency.
B. A reacquired right asset.
C. An indemnification asset.
D. A contingent consideration asset.

B. A reacquired right is a right granted by an acquirer to the acquiree prior to a business combination that is reacquired when the acquirer gains control of the acquiree or the asset in a business combination. For example, the acquiree may have acquired the right to use the acquirer's trade name as part of a franchise agreement. A reacquired right is an intangible asset that is amortized by the acquirer over the remaining contractual period of the contract that grants the right.

15

Which one of the following items that was acquired in a business combination is most likely to be accounted for using post-combination accounting requirements specific for the item?
A. Plant and equipment.
B. Investments held-to-maturity.
C. Contingency-based assets.
D. Patents.

C. Assets (and liabilities) arising from contingencies are likely to be accounted for using specific post-combination accounting requirements. Those requirements provide that when new information is obtained about a contingency-based asset, it will be measured at the lower of (1) its acquisition-date fair value or (2) the best estimate of its future settlement amount.

16

In recording its acquisition of Lambda, Inc., Omega, Inc. properly recognized a contingent consideration liability of $28,000 associated with a possible payment based on a target amount of post-combination cash flow from operations. Shortly after the combination, but during the measurement period, the national economy experienced a significant downturn which made it unlikely that the target amount would be reached. As a consequence, at the end of Omega's fiscal period, the liability was properly revalued to a fair value of $9,000. Which one of the following is the amount of gain or loss that will be recognized in income as a result of the reevaluation of the contingent liability?
A. $ - 0 - (no gain or loss).
B. $19,000 gain.
C. $19,000 loss
D. $ 9,000 loss

B. A contingent consideration liability is the obligation of an acquirer to transfer additional consideration, if specific conditions are met. Contingent consideration liabilities are initially recognized at fair value and adjusted to fair value each period until the contingency is resolved or expires. A change in fair value resulting from occurrences after the acquisition date would be recognized as a gain or loss in income in the period of the change. In this question, a $19,000 gain (reduction in liability) would be recognized ($28,000 - $9,000 = $19,000).

17

T/F: Changes in the value of contingent consideration that result from events that occur after a business combination will be recognized as a change in the cost of the business combination.

False.
These are not measurement period adjustments for contingent consideration and do not change the cost of the investment.
* Contingent consideration classified as equity is not re-measured and its subsequent settlement is accounted for within (by adjusting) equity;
* Contingent consideration classified as an asset or liability is re-measured at each reporting date and recognized in earnings (unless the contingent consideration is a hedging arrangement, in which case the changes in value are recognized in other comprehensive income).

18

T/F: If a contingency recognized in a business combination is a liability, it will be measured at the fair value as of the acquisition date until it is settled or expires.

False.
Contingency consideration should be measured and reported at fair value. However, changes in the information about the fair value is not considered after the business combination has occurred.

19

T/F: A reacquired right recognized in a business combination is amortized subsequent to the combination.

True

20

T/F: If a contingency recognized in a business combination is an asset recognized at fair value as of the acquisition date, it subsequently can be re-measured to a lower amount, but not to a higher amount.

False.
If the contingency is an asset, it will be measured and reported at the lower of:
i. Its acquisition-date fair value, or
ii.The best estimate of its future settlement amount.

21

T/F: Contingent consideration recognized in a business combination is initially measured at fair value at the combination date.

True

22

T/F: Changes in the value of contingent consideration classified as equity that result from events that occur after a business combination will be recognized as a gain or loss in the period of the change.

False.
Changes in the value of contingent consideration classified as an asset or a liability that result from events that occur after a business combination will be recognized as a gain or loss in the period of the change.

23

If provisional amounts are reported for items recognized in a business combination, which of the following kinds of information must be disclosed?

I. The reasons why the accounting is incomplete.
II. The amount of adjustment(s) made to the provisional amounts during the period.
III. The date at which each provisional amount is expected to be resolved.

I and II only. If provisional amounts are reported for items recognized in a business combination, the reasons why the accounting is incomplete (i.e., the amounts are provisional) (Statement I) and the amounts of adjustment(s) made to the provisional amounts during the period (Statement II) - as well as the specific items for which the amounts are provisional - must be disclosed. The date at which each provisional amount is expected to be resolved is not a required disclosure (Statement III).

24

When goodwill is recognized in a business combination, which of the following types of information about that goodwill must be disclosed?

I. A quantitative description of the factors that make up the goodwill.
II. The amount of goodwill that is expected to be deductible for tax purposes.
III. The amount of goodwill allocated to each reportable segment.

All 3 must be disclosed.

25

When a bargain purchase occurs in a business combination, which of the following types of information must be disclosed in the period of the combination?
I. The amount of gain recognized.
II. The income statement line item that includes the gain.
III. A description of the basis for the bargain purchase amount.

All 3 must be disclosed.

26

Which of the following general types of information about a business combination must be disclosed?

I. The primary reason for a business combination.
II. How the acquirer gained control of the business.
III. The acquisition-date fair value of consideration transferred and each major class of asset acquired and liability assumed.

All 3 must be disclosed.

27

Which of the following occurrences in a business combination, if any, identify circumstances that require extensive disclosures in the period of the combination?

I. The existence of a non-controlling interest.
II. Achieving control in step acquisition.

Both. When there is a non-controlling interest in the acquiree, the fair value of the non-controlling interest at the acquisition date, and the valuation techniques and inputs used to measure that fair value, must be disclosed. When control is achieved in steps (or stages), the fair value of the equity held by the acquirer immediately before the combination, the amount of any gain or loss resulting from adjusting the interest to fair value, and the line item in the income statement where the gain or loss is reported must be disclosed.

28

T/F: Special disclosures are required for measurement period adjustments.

True

29

T/F: In the consolidated income statement for the period in which a business combination occurs, the revenue of the acquiree since the acquisition date must be separately disclosed.

True

30

T/F: The acquirer must disclose information about transactions with the acquiree that are recognized separately from the transaction(s) to record a business combination.

True

31

T/F: In the consolidated income statement for the period in which a business combination occurs, the expenses of the acquiree since the acquisition date must be separately disclosed.

False.
The expenses would be consolidated for any that have occurred since the acquisition date with the parent's expenses.

32

T/F: The fair value of each major class of consideration transferred to effect a business combination must be disclosed.

True

33

T/F: Until the completion of the measurement period, the acquirer must disclose a reconciliation of goodwill between the beginning and end of any reporting period.

True

34

T/F: When depreciable assets are acquired in a business combination, the acquirer must disclose the annual depreciation expense expected from the assets.

False.
The depreciation expense does not transfer in a business combination. The asset will be brought onto the books at fair value and begin depreciation in that year.

35

T/F: The primary reason for a business combination must be disclosed by the acquirer.

True

36

T/F: Disclosures about a business combination must be made only in the period in which the combination occurs.

False.
Disclosures are required for the current and next reporting period as long as the measurement period is still open.

37

Sayon Co. issues 200,000 shares of $5 par value common stock to acquire Trask Co. in an acquisition-business combination. The market value of Sayon's common stock is $12 per share. Legal and consulting fees incurred in relation to the acquisition are $110,000. Registration and issuance costs for the common stock are $35,000. What should be recorded in Sayon's additional paid-in capital account for this business combination?

$1,365,000
The calculation is:
Fair value (200,000 sh. x $12/sh.) $2,400,000
Par value (200,000 sh. x $5/sh) (1,000,000)
Gross additional paid-in capital $1,400,000
Less: Registration and issuance costs 35,000
Net additional paid-in capital $1,365,000
The legal and consulting fees ($110,000) were paid in cash and would be expensed in the period incurred. The registration and issuance costs of the common stock are properly deducted from the additional paid-in capital derived from the issuance of the stock.

38

Under which one of the following circumstances will goodwill be recognized in a business combination carried out as a legal merger?
A. Book value of net assets acquired > Cost of investment.
B. Fair value of net assets acquired > Book value of net assets acquired.
C. Fair value of net assets acquired > Cost of investment.
D. Fair value of net assets acquired

D. Goodwill is recognized when the cost of the investment is greater than the fair value of net assets acquired (= the fair value of net assets acquired is less than the cost of the investment). In a legal merger, the goodwill would be recognized on the books of the surviving firm at the time of the business combination.

39

On August 31, 2005, Wood Corp. issued 100,000 shares of its $20 par value common stock for the net assets of Pine, Inc. in a business combination accounted for by the acquisition method. The market value of Wood's common stock on August 31 was $36 per share. Wood paid a fee of $160,000 to the consultant who arranged this acquisition. Costs of registering and issuing the equity securities amounted to $80,000. No goodwill was involved in the purchase.

What should Wood capitalize as the cost of acquiring Pine's net assets?

$3,600,000
The cost of acquiring a company includes all cash and other assets distributed, liabilities incurred, and equity shares issued, all at fair value. Direct costs of carrying out a combination (such as accounting, legal, consulting, and finders' fees) are expensed in the period incurred; they are not included as part of the acquired entity. The cost of registering and issuing securities used to effect a business combination are charged against the fair value of the securities issued and, for equity securities, serve to reduce the amount of additional paid-in capital recognized. Thus, this correct answer ($3,600,000) was computed as 100,000 shares issued x $36 per share (fair market value) = $3,600,000. The $160,000 fees paid to a consultant would have been expensed, and the $80,000 cost of registering and issuing the common stock would have reduced the amount recognized from the sale of the stock.

40

Key Corp. issued 1,000 shares of its nonvoting preferred stock for all of Lev Corp.'s outstanding common stock. On the date of the transaction, Key's nonvoting preferred stock had a market value of $100 per share, and Lev's tangible net assets had a book value of $60,000. In addition, Key issued 100 shares of its nonvoting preferred stock to an individual as a finder's fee for arranging the transaction. As a result of this business combination capital transaction, Key's total net assets would increase by:

$100,000
Net assets would increase by $100,000 as a result of Key issuing 1,000 shares of preferred stock with a market value of $100 per share (1,000 shares x $100 = $100,000). The $10,000 finder's fee (100 shares x $100 per share = $10,000) would be expensed in the period incurred, not capitalized as part of the cost of the combination. Thus, net assets would increase by $100,000.

41

Pine Company acquired all of the assets and liabilities of Straw Company for cash in a legal merger. Which one of the following would not be recognized by Pine on its books in recording the business combination?
A. Accounts receivable.
B. Investment in Straw.
C. Intangible asset - Patent.
D. Accounts payable.

B. Pine will not recognize on its books an investment in Straw. Because the business combination is a legal merger, Pine recognizes on its books almost all of Straw's assets and liabilities, not an investment in Straw. There can be no investment in Straw, because Straw will cease to exist.

42

Plant Company acquired controlling interest in Seed Company in a legal acquisition. Which one of the following could not be part of the entry to record the acquisition?
A. Debit: Investment in Seed Company.
B. Debit: Goodwill.
C. Credit: Cash
D. Credit: Common stock

B. The entry that Plant will make to record its legal acquisition of Seed cannot include a debit to Goodwill. The entry Plant makes will debit (only) the Investment account and credit whatever form(s) of consideration is given (e.g., Cash, Bonds Payable, Common Stock, etc.). Goodwill cannot be debited at the time of the acquisition, though it may be recognized at the time of consolidation.

43

Company L acquired all of the outstanding common stock of Company M in exchange for cash. The acquisition price exceeds the fair value of net assets acquired. How should Company L determine the amounts to be reported for the plant and equipment and long-term debt acquired from Company M?
Plant and Equipment
Long-Term Debt

Fair value for both
When the required acquisition method of accounting is used to record a business combination, all acquired assets and liabilities should be reported at fair value. Therefore, both plant and equipment and long-term debt should be reported at fair value.

44

T/F: The acquisition method of accounting must be used for all current combinations, regardless of legal form.

True

45

T/F: If a legal merger is appropriately accounted for using the acquisition method of accounting, it is possible to recognize goodwill at the time of the business combination.

True

46

T/F: The entry to record a business combination that is a legal acquisition could include a debit to recognize goodwill.

False.
Because both entities continue to exsist in an acquisition, there is no goodwill to be recognized.

47

T/F: A legal merger accounted for using the acquisition method of accounting will result in the need to prepare consolidated financial statements.

False.
Only one entity remains after the business combination, therefore, there is no other entity to consolidate with.

48

T/F: A business combination in the form of a legal acquisition results in establishing a parent-subsidiary relationship.

True

49

T/F: If a legal acquisition is appropriately accounted for as an acquisition, the investor will record on its books the individual assets and liabilities of the investee.

False.
Both entities will continue after the business combination.

50

T/F: A legal consolidation, accounted for using the acquisition method of accounting, will result in the need to prepare consolidated financial statements.

False.
Only one entity remains after the business combination, therefore, there is no other entity to consolidate with.

51

T/F: Goodwill recognized in a legal consolidation must be amortized over its expected life.

False.

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